As a follow-up to parts 1 & 2 that I posted last week, I wanted to touch on what is, in my opinion, the biggest issue facing PLS today. Whether or not to facilitate a full take-over of the company, or sign binding off-take agreements (BOA’s) for the full planned production of the company and develop the mine.
In my view we should be pushing for a take-over as the risks and unknown factors of long term off-take agreements are far too high at this point of the company’s existence.
I raise the question of “what value is there in an off take agreement at this stage of the game?”
In my view, the BOA’s signed 6+ months ago by other industry players carried some value to the producer for locking up production. In essence, we were seeing companies that had little-to-no ability to raise sufficient financing to get to production, sign agreements with their customers to allow them to do so. It appeared to be a win-win for both parties - buyer gets supply in a white-hot market and seller gets to exist in the future, simple really.
PLS have long passed the point of needing customer support in order to raise funds for the development of the mine in my view. We saw this clearly demonstrated by the incredibly successful $100M raise earlier this year. (Don’t get me started on the 38c issue price though).
I believe now is not the time to be locking up the company’s off-take for the sake of securing financing. As owners of the company we want leverage to the lithium price and the ability to sell to highest bidder. By signing long-term off-take agreements for our production we lose the ability to do both of these things, we also take the heat out of the market and shift the balance of power back to the customer in my view.
If we go back to finance basics and look at Porter’s 5 forces, it’s always best to be in a position where if you are the supplier you have the bargaining power. By keeping production unallocated, PLS puts itself in the best bargaining position possible in my view.
“So how do we finance the development of the mine if we can’t show we have buyers for all of our production?”
It’s my view we don’t need to show that we have customers for 100% of planned production in order to secure financing. There hasn't been a long-term macro environment for a commodity so one-sided to the producers in the last 20-years in my view, we know this because, in my opinion, the customers are falling over themselves in order to secure supply and lock up producers wherever they can. Now is not the time to give away an advantage, through signing BOA’s, that will never be seen again for a company such as PLS in my view.
In my opinion, PLS have placed significant value on locking up 40% of their current planned annual production for the expectation of future value to be realised via the co-investment in the downstream processing facility with GLC. It looks to me like value enhancement for shareholders is many years away at best, and at worst may never actually materialise in my view. Add to this the token equity investment that is dilutive to shareholders and it raises the question of whether or not we should have been bothering with this type of deal at all in my view.
I believe that if PLS management wants to develop the project and actually mine, they should be looking at project financing to get through development and into production. The debt to be provided will likely have an interest moratorium until revenue is recognised and should be secured against the company’s above and below ground assets, while being further de-risked by a series of multi-duration forward sale agreements of future production for at least 3 years.
I would expect to see sales of 60%, 40% and 20% of planned production over the first, second and third years from completion as is typical in this type of deal. It’s a well-worn path and a structure that has been used countless times in the industry over many many years. It also has the tremendous advantage of not diluting shareholders any further in my view. No more equity issues thanks.
If PLS follow this path they maintain leverage to spot prices and preserve the optionality with the company, as opposed to giving it away to consumers in perpetuity, in my view. We should be following the tactics of lithium suppliers within China today and only deal on a short-term basis, and we should be looking to the other commodities as to the best pricing and sales mechanisms for the longer term. When the macro environment favours producers so greatly, now is not the time to be signing future value away in my view.
“This all seems too hard, perhaps facilitating a full take-over is the best outcome for the company today?”
There’s a lot of names being bandied about as to potential suitors for the company, we have Bloomberg reporting that BYD is very keen to secure long term supply and eyeing PLS, we’ve had Optimumnano reportedly in PLS’s offices holding hands with Tinci, and if we think Mineral Resources is likely to stand by twiddling their thumbs when so much is at stake in this fast-paced game of musical chairs, then we’re sillier than we look in my view.
Hell, even GLC must have realised by now that they signed the deal of the century and they’re scrambling to come up with the funds for their required equity contribution. This type of interest will not last in my view, Management needs to act now before the players tire of running in circles or the music stops…..
Although having said that, If the customers want it, they have to buy it all, today, for a price well above where the stock is trading, and it’s going to take a lot more to buy this company than 53 cents per share in my view. See part 2 for more thoughts on this and the active shorting program keeping the stock price low.
Friendly or unfriendly, that is the question. If you’re PLS management do you open the data room for all and sundry so that you facilitate an orderly process for selling the company, or do you shut the gate and let the buyers think they’re going to miss out if they don’t act now?
Well, in my view, all but one will miss out, so why worry about an orderly process, we should be encouraging an environment where customers are panicked about surety of supply and whether they can fill their plants, you know, like the current market dynamics in China….
I believe it’s in our interest as shareholders to see the highest possible share price for the company. In my view we should close the door to all suitors, forget about anymore BOA’s, publish a ball-tearing DFS and make them go hostile for the company. Bring it on.
A word on credit risk…..ignore this at your peril
In my view, it must be a nice feeling, as management, to have all your planned production tied up under long-term supply agreements with large cashed up credit-worthy Chinese companies, you’d sleep well at night knowing that every tonne produced at mine had a home waiting for it with a grateful smiling customer….. except when the price of lithium corrects from its current levels of course.
Does anyone remember 2008? When the world stopped turning and commodity prices collapsed. If I remember correctly, Rio Tinto, BHP and FMG all had long term take-or-pay agreements with very large Chinese steel mills for their WA iron ore production. You know what happened? The contracts ceased to be worth the paper they were written on as the Chinese buyers stopped taking the contracted tonnes and the very small spot traded market price for iron ore went into free-fall.
In my view, this type of scenario can and will happen again should we see a significant correction in lithium prices and begs the question, “Do we really know who we’re signing BOA’s with?”
The iron ore majors had balance sheets and far deeper pockets than PLS would ever have in my view, to weather the storm, well maybe not Rio Tinto, $14bn rights issue anyone? My point is that the Chinese counter parties to the BOA’s being signed by the industry are essentially unknown, untested and unlikely to stick around if the proverbial hits the fan, in my view of course.
“Surely the companies we’re looking to sign off-take agreements with are credit worthy and will honour their agreements at all points through the cycle?”
Ha ha ha lol…. I can’t actually type that with a straight face… It’s my view that the companies looking to sign BOA’s with PLS will say just about anything in order to secure the tonnes, it’s a case of lock them up now and worry about payment later in my opinion.
I believe any contract between an Australian company and a Chinese company has the real potential to be a one sided trade should the situation go pear-shaped. The risk is asymmetric, and in my view, sits squarely with the Australian company should the Chinese counterpart decide not to perform its contracted obligations – ie, take tonnes and make timely payment at agreed prices.
It gets even worse in my opinion, if the Chinese company has no Australian assets to pursue in seeking a remedy, as they can quite simply just up and disappear into the dragon breath ether. Good luck trying to secure a judgement for non-performance of contracted obligations through a Chinese court.
The bottom line folks is that in my view, demand for lithium will continue to outstrip supply for the foreseeable future, therefore there is no need for any additional offtake agreements. Chinese processors need product to fill plants and locking up supply shifts the balance of power from producer to consumer - we simply have no need to go down this path in my view.
On a fully risked basis the value of the company is likely best realised via a near-term transaction in my view. Sure, the DFS will use a low discount rate in its NPV calculations and hopefully show a very large number, but that won’t in my view capture or adequately reflect the potential credit risk I’ve mentioned above. Holding the stock through development and then a maturing product cycle is not the best outcome for all stakeholders in my view.
As always, do your own research and good luck to all.
Best wishes,
Super Ninja
PLS Price at posting:
52.8¢ Sentiment: Buy Disclosure: Held
(20min delay)
